Today, I learned something from a neighbor. I learned that “they” don’t want us to burn any more oil, which is why “they” are raising gas prices. I was told we have plenty of oil for another hundred years, if “they” would just let us prospect and drill wherever “we” want to. Like ANWR (Alaskan National Wildlife Refuge).
Drill, baby, drill.
Fox News has been pushing the “environmentalists cause fuel prices to rise” shtick for a long time, so I assume that is where my neighbor gets his misinformation.
My question is, “So what happens at the end of that hundred years, when ANWR is tapped out?”
The answer is that gas prices rise without limit, just like they are starting to do right now. Except that there is no mysterious “they” involved, nor some magic dial in the Oval Office that allows the President (or Congress) to set oil prices. This is just supply-and-demand economics, and a rather simple example at that.
It’s called Peak Oil, and here’s how it works:
Someone discovers a use for the black stuff that oozes out of the soil and ruins Farmer Bob’s crop. Farmer Bob digs a well, and the black stuff gushes out. People start using it, and because it’s useful to them, they want more. Farmer Bob adds another well, doubling the supply for only a fraction of the cost of the first well — he’s already bought the drill, after all, and his truck will hold two fifty-gallon drums as easily as one — so as other farmers get into the business and compete with Farmer Bob, he drops his prices to keep his business going. Because the stuff is now cheaper and more plentiful, more people use it, increasing demand. All the farmers dig more wells and drop their prices.
This goes on for a long time, and both supply and demand increase, while prices continue to drop.
Then Farmer Bob’s first well runs dry.
No problem, because by now, they’ve figured out how to find new wells all over the world, many of them much bigger and easier to get to than Farmer Bob’s well, and they continue to expand the supply of oil. They develop a huge worldwide futures market system based on oil as a commodity. Hardly anyone notices when the first well goes dry. Except Farmer Bob.
Then a second well runs dry.
By now, they’ve already dug all the easy wells they can find, and they’re all pumping at the maximum rate. They’ve pretty much explored the whole world, looking for new oil wells, and there’s nothing left that’s nearly as easy as those first wells where the oil gushed. They know where there’s another reserve, a big one, but it’s under a mile of ocean in the Gulf of Mexico. And there’s another one up in Alaska, where there are no roads and the temperature drops to fifty below in the winter. And another in Iraq. And maybe one in Siberia. And under the north polar ice cap.
A third well runs dry.
Political and economic pressure rises to drill in the Gulf of Mexico. But it’s under a mile of water. You can’t just drill a hole. The whole operation is hideously expensive. It’s slightly less expensive than an ANWR pipeline. Maybe we should just invade Iraq and take their oil?
A fourth well runs dry.
They go ahead and drill in the Gulf of Mexico. This allows supply to continue to increase, but there’s a problem — the expense of drilling under a mile of water is so high that they have to raise pump prices to pay for it. For the first time, (inflation-adjusted) gas prices rise instead of falling. Note that in the early 1960’s, gas cost only thirty-five cents a gallon. But a new car cost $2500 and a family of four could eat well on $100/month. The current dollar is worth about ten percent of the 1960 dollar, so the equivalent price of gasoline would be three dollars and fifty cents — which is exactly where it sits right now, after rising from its all-time (inflation-adjusted) low of just under two dollars a gallon several years ago.
As prices rise, people who are used to low gas prices grumble. They buy smaller cars, take shorter family vacations, move closer to work. For the first time, demand drops instead of rising.
As demand drops oil companies find they are now producing too much oil. If they keep producing at this rate, they’ll create a glut, which will depress prices as everyone competes to get rid of their oil. Reduced prices mean they won’t be able to cover their production costs, and they won’t be profitable. So they reduce production on their most expensive wells and slow down the drilling of new ones. They lay off workers, cut delivery routes, scale back. For the first time, global supply drops instead of rising.
When this happens, we’ve just passed Peak Oil.
Ripples move up the supply chain. Small oil-related businesses go under for want of business, parts for equipment are harder to obtain and cost more. All the economies of scale start to evaporate, and oil production costs rise, leading to higher oil prices, reduced demand, and further reduction in supply.
A fifth well runs dry.
As old wells continue to dry up, they have to keep drilling new wells, and now need to wade into two miles of water in the Gulf of Mexico to get to it. These wells make the old one-mile wells look cheap. Every new well they drill adds to the overall production cost of oil, which shows up at the pump as higher prices. For the first time, ANWR and Siberia start to look truly attractive, even with the lack of roads and the severe winter temperatures.
Prices continue to rise, demand continues to drop, supply continues to be cut back. The need for new wells slows.
A sixth well runs dry.
Assuming they’ve tapped ANWR and Siberia at all (driving prices to new highs), those wells are now starting to dry up, and there are plans to tap the vast oil reserves under the north polar ice cap, a truly gargantuan enterprise. The initial cost will require tax support to build the technology, and the difficulty of maintaining the pumping stations on the unstable ice sheets will drive oil prices to new highs. If the polar oil fields were used to satisfy our peak demand it would only last a few decades, but because high prices have reduced demand so much, this reserve will effectively never run dry.
This happens with any non-renewable resource. Oil wells don’t fill in with new oil after they’ve been depleted, any more than a gold mine fills in with new gold. You have to move on.
This means we find and use up all the first-choice, cheap-to-produce resources first. After that, we have to move to the second-choice, then the third-choice. Every time we move to a new level, the resource becomes more expensive to produce and more costly to the end-user.
Technology helps to bring the price down and open previously-unprofitable reserves. People figure out a new way to leach gold from minerals, for instance, and they can reopen an unprofitable gold mine for a short time. But that technology costs money to use: there is no technology that makes a resource cheaper than simply picking it up off the ground, or punching a hole in the ground and watching the stuff spew out under its own pressure.
Eventually, production becomes so expensive that companies can’t sell it at a profitable price — people can’t use it at that price, and stop buying. So they cut back production and let the commodity become a “luxury item” that only the rich can afford.
I’ve deliberately ignored the roles of commodity speculators, rapacious profit-taking by oil executives, cartel restrictions of supply (OPEC), and government subsidies and reserve policies. These all contribute to the exact price of gasoline at the pump, but they can’t change the basic Peak Oil curve: prices will first fall, and demand will rise. Then prices will rise, and demand will fall.
The downslope isn’t as smooth as I’ve suggested. There’s a point in the process where demand collapses suddenly.
This can happen either of two ways.
The most hopeful route is that the rising price of oil makes entirely new technology profitable. Living in the West as I do, I see wind farms and solar collectors popping up all over the place. Hybrid cars have become popular, and we’ll eventually see the all-electric car. Each of these replaces the need for some of the oil. Eventually, the new technology matures and becomes cheaper than the increasingly expensive oil, and the demand for oil vanishes.
The other route is that there is no full replacement — technological innovation fails — and people simply find some other way to live.
I understand that $4.00/gallon in the fall of 2008 resulted in a measurable dip in demand, and at least one author has suggested that the collapse of the mortgage bubble was precipitated by people who had to choose between paying for gas to commute to work, and paying their mortgage.
Whether the breaking-point is $4 or $10 or $50 per gallon, there is a point at which large numbers of people make radical lifestyle changes because they simply cannot afford to drive a gas-powered car any longer. They’ll car pool with neighbors. They’ll buy a horse or a bicycle. They’ll walk.
Once people start changing their lifestyles, the mass-market for gasoline-powered automobiles will collapse. My wife and I have both shifted to an Internet-based, work-from home model of living. We have two cars — leftovers from before we married — but apart from road trips and the grocery store, the cars see almost no use. We’ll replace the two cars with one as they wear out. If we had to go in to an office every day, we’d likely move or change jobs to be closer to where we needed to be. It would be inconvenient but not impossible for us to get rid of our cars right now. If the price of gasoline goes high enough, we will do that, along with millions of other people.
Either collapse in the demand for oil will hit the oil industry like a home-run swing against a watermelon. The industry as a whole will go bust, though a much smaller industry will survive to supply smaller amounts of expensive oil from the remaining oil reserves.
The Age of Oil is already ending. It isn’t that we have run out of oil. There’s lots of oil. What we have run out of is cheap oil: oil that’s inexpensive enough to burn.
As far as ANWR is concerned, that’s why we invaded and occupied Iraq: Iraq has one of the last large deposits of easily accessible sweet crude in the world. Now the US has huge military bases sitting right on top of those deposits, ready for the global oil endgame.
There’s no need to drill for expensive oil in ANWR, when there is cheap oil in Iraq.
Well, kind of cheap. We only had to sink a few trillion dollars into a little old war that kind of, like, helped to wreck our economy. And maybe we’ll just sit on that oil for a bit, for some future rainy day when we really need it. Like the next war. Fighter jet fuel doesn’t grow on trees, you know. Or maybe we’ll sell it all back to China to pay off our national debt: indeed, those US bases in Iraq may be the only reason the Chinese continue to buy US Treasury Bonds.
Oil companies walk a very fine line right now. As we move down the back side of the Peak, every inevitable increase in oil prices risks triggering a collapse in demand. The trick for them is to produce more oil without paying for it, so they can keep prices low and demand high. This means government handouts: tax breaks, direct subsidies, conquering and occupying the Iraqi oil fields — or using federal tax money to build the pipeline to ANWR.
That’s the real ANWR issue.